Which are cheaper — tradeable credits or feed-in tariffs?

A few years ago, a heated debate started within the U.S. solar industry about which was more cost-effective: solar renewable energy credits (SRECs) or feed-in tariffs (FITs).

Now that we’ve had more experience with both policies, the question is again being asked. Researchers at the Institute for Local Self Reliance (ILSR) attempted to answer this question, and released a report earlier this month concluding that long-term contracts for clean energy are more cost-competitive than tradeable credit markets. (Note: Some are now calling FITs “CLEAN Contracts.” We’ll use both terms in this post.)

So what does that mean exactly? Considering that solar still has a long way to go before we reach double-digit penetration, this kind of research helps us understand which solar policies are most effective.

Let’s start with the background on how these programs work.

Modern FITs were started in Germany in the ’90s and have spread to dozens of other countries around the world. The policy sets a price per kilowatt-hour (kWh) that utilities must pay an owner of a renewable energy system over a certain period of time — typically 15 to 20 years. Those rates are stepped down over time as the cost of technologies come down. FITs also give a system owner priority access to the grid, meaning the utility must allow them to interconnect in a short period of time.

Although the policy is hailed as a simple, transparent way of promoting renewables, it has not gained traction in the U.S. like it has around the world.

Pure-play SREC Programs, which are uniquely American, are a relatively new mechanism. An SREC is a tradeable credit that represents the “environmental attribute” of one megawatt-hour of clean electricity. Under a Renewable Portfolio Standard, energy suppliers must purchase a certain number of SRECs in order to meet yearly targets. These suppliers can generate the credits by developing their own projects, or they can purchase them from customers.

SRECs are the exact opposite of CLEAN Contracts. Rather than provide a guaranteed long-term price, SRECs fluctuate in price based upon supply and demand. If there’s an oversupply of solar, SREC prices will drop; if there’s an undersupply, they will rise. Some people believe these “floating” markets are opaque and create inefficiencies that ultimately make the program more expensive; proponents say an SREC system allows the market to realize the true price of solar.

However, as the ISLR report points out, CLEAN Contracts in Germany have more closely followed changes in solar system prices than market-based SRECs have:

According to the ILSR report, when factoring in program management, the cost of financing, and the ease of interconnection under both programs, CLEAN Contracts come in more than 3 cents cheaper per kWh when comparing the levelized cost of energy from a theoretical solar project in New Jersey. (New Jersey has an SREC program, and state officials debated this exact issue when it was initially rolled out. In fact, a 2007 independent analysis showed that SRECs could be up to 50 percent more expensive due to higher transactional costs.)

Here’s more from the ILSR report, which also looked at small-scale systems in California:

This finding is reflected in a 2011 study that found the average cost of solar to be 30 percent higher for California ratepayers than German ones, accounting for the difference in solar resource intensity. Californians pay between $0.33 and $0.38 per kWh for solar power, in comparison to average CLEAN Contract rates of $0.24 per kWh in Germany. This fits with the findings from international energy consulting firm KEMA, which reported that “studies have suggested that cost savings of 10 to 30 percent may be possible from maximizing investor certainty.

CLEAN Contracts have minimal transaction costs because the project developer is assured a long-term contract, grid interconnection, and fixed, transparent price for their electricity.

SRECs, however, create significant transaction costs. Solar projects in an SREC regime, particularly those that are larger than net metering thresholds, must participate in a utility bidding process for a contract. The contract must be negotiated and may include bundling the SRECs (and an additional negotiation over the price) or not.

For the last five years, SREC programs have dominated state-level solar policy. But with price crashes in Pennsylvania and New Jersey, CLEAN Contract advocates are using the opportunity to point out the cost-effectiveness of long-term, transparent tariffs to support renewables. Will this help them make their case?